In Defense of Allan Meltzer

Allan Meltzer is one of the greatest monetary economists to have ever lived (although credit is also due to his long-time collaborator Karl Brunner, who Meltzer would be the first to acknowledge). This is not hyperbole. Meltzer’s work emphasizes the role of imperfect information, uncertainty, and transactions costs in developing an understanding of the role of money in exchange (AER, 1971 with Karl Brunner), the business cycle (with Alex Cukierman and Karl Brunner, JME 1983), evaluating alternate monetary regimes (1986 JME), and the role of monetary and fiscal policy (to be concise, on monetary policy, with Cukierman, Econometrica 1986; Economic Inquiry, 1987; with Mascaro, JME, 1983; with Brunner Carnegie-Rochester Series, 1983; on fiscal policy, with Scott Richard, JPE, 1981; with Brunner, 1993). This is not to mention Meltzer’s work on the history of the Federal Reserve and the monetary transmission mechanism.

For all the talk about economics needing to find a new vision, the work of Allan Meltzer (and his co-authors) represents a strong foundation on which to build.

What’s more, Meltzer has long embraced Keynes’s vision of uncertainty. More importantly, and unlike most others who have done so, he has recognized that uncertainty plagues not only individuals and firms, but also government policy makers.

With that being said, it was particularly disheartening to see Brad DeLong address Meltzer as follows:

Exercise some moral responsibility, Allan.

Shameless partisan hack.

Why would DeLong write such a thing? It seems that he doesn’t much like Meltzer’s critique of quantifying jobs “saved or created” by the stimulus package. Specifically, in a memo to John Boehner, Meltzer writes:

There is no greater recognition of the failure of the stimulus program to create jobs than the efforts to mislead the public into believing the program had saved thousands, or millions, of jobs.

One can search economic textbooks forever without finding a concept called “jobs saved.” It doesn’t exist for good reason: how can anyone know that his or her job has been saved?

The Administration can make up any number it pleases. The number has no meaning.

DeLong argues that this is ridiculous and appeals to authority by citing Milton Friedman arguing that the Depression was worsened by the Fed’s failure to prevent the money stock from declining:

If the concept of “jobs saved” does not exist, how come Milton Friedman says that an extra $1 billion of open market operations in late 1931 would have stopped the Great Depression in its tracks.

He continues:

You can critique models. You can critique parameters. You can critique parameters. You can critique how the calculations are done, but you cannot deny their existence, for the kind of counterfactualcalculations that Milton Friedman does are, of course, the steady diet of what economists and other policy analysts do every day.

Of course, if we expand the earlier quote of Allan Meltzer, we would find that this is precisely what Meltzer is doing in his memo. Here is the full quote:

There is no greater recognition of the failure of the stimulus program to create jobs than the efforts to mislead the public into believing the program had saved thousands, or millions, of jobs.

One can search economic textbooks forever without finding a concept called “jobs saved.” It doesn’t exist for good reason: how can anyone know that his or her job has been saved?

The Administration can make up any number it pleases. The number has no meaning. The Council of Economic Advisers gets a number for jobs saved using the same model that Dr. Christina Romer and Jared Bernstein used when they forecast that the $787 stimulus program would keep the worst unemployment rate in this recession at about eight percent. But as we all know, since that bill became law, our economy has shed some three million jobs and the unemployment rate is nearing double digits.

In other words, Meltzer believes that the model that was used to assess the benefits of the stimulus package is significantly flawed and an impractical guide to assess job creation. In addition, his earlier point is that there is no meaningful basis on which to calculate jobs “saved or created”.

A: “Based on our models of the economy, we believe there would be X million fewer jobs today without the stimulus.”

But it is absurd to suggest that you can say,

B: “We have measured how many jobs the stimulus has saved or created, and the number is X.”

Economists are capable of making statements such as A, but it is beyond our ken to make statements such as B. Statement B is,of course, much stronger than statement A, as it purports to be based on data rather than on models. Unfortunately, we are hearing statements like B much too often from administration officials.

Going beyond Mankiw’s description above, statements exemplified by A are dependent on the model that is used. Several questions need to be addressed. How useful is the model? What are the assumptions? How does it compare with other models in the literature?

These questions have been addressed in the paper by John Cogan, Tobias Cwik, John Taylor, and Volker Wieland entitled, “New Keynesian Versus Old Keynesian Government Spending Multipliers”. The model used by Bernstein and Romer is an Old Keynesian model. These authors compare and contrast the Bernstein-Romer model with the Smets-Wouters model that exemplifies the current consensus in macroeconomic thought. Here is their conclusion:

We find that the government spending multipliers from permanent increases in federal government purchases are much less in new Keynesian models than in old Keynesian models. The differences are even larger when one estimates the impacts of the actual path of government purchases in fiscal packages, such as the one enacted in February 2009 in the United States or similar ones discussed in other countries. The multipliers are less than one as consumption and investment are crowded out. The impact in the first year is very small. And as the government purchases decline in the later years of the simulation, the multipliers turn negative.

The estimates reported here of the impact of such packages are in stark contrast to those reported in the paper by Christina Romer and Jared Bernstein. They report impacts on GDP for a broad fiscal package that are six times larger than those implied by government spending multipliers in a typical new Keynesian model and our calculations based on generous assumptions of the impacts of tax rebates and transfers on GDP. They also report job estimates that are six times larger than these alternative models, and the impacts on private sector jobs are likely to be at variance with the alternative models by an even larger amount. At the least, our findings raise serious doubts about the robustness of the models and the approach currently used for practical fiscal policy evaluation.

Allan Meltzer clearly thinks that the model used by Bernstein and Romer is flawed. The work of Cogan, Cwik, Taylor, and Wieland suggests that there is reason to believe that Meltzer is correct to doubt the model.

In addition, Meltzer’s critique of the success of the stimulus package also raises important questions about attributing the recovery to the stimulus package. Specifically, he cites the role of “Cash for Clunkers” and new homebuyer tax credits in contributing to third quarter growth, neither of which was in the stimulus package.

Allan Meltzer is one of the greatest monetary economists to have ever lived. He deserves much better treatment than to be called a “shameless partisan hack”.

As we have been saying here, the claims that the fiscal stimulus has saved or created X number of jobs is not a simple empirical question. It must be an inference from a model that tells us what would have happened in the absence of that stimulus. Collecting reports from various firms or local governments about their job situations will not do. At best these individual reports are based on pop-theories on the part of the reporters about what would have happened.

4 responses to “In Defense of Allan Meltzer”

Christy Romer is doing something completely normal and sensible in estimating the effects of policies–something Milton Friedman did every day of his life. Now comes Allan Meltzer to say that what she did is, in some way–he doesn’t say how–stupid.

Any argument that requires concluding that something Milton Friedman did every day of his life was stupid is not an argument that anyone should make–unless, of course, they want to be a shameless partisan hack.